Ensuring the Sustainability of the U.S. Pay-As-You-Go System

We propose a heterogeneous agent model to explore the sustainability of the Pay-As-You-Go (PAYG) pension system in the context of an aging population and an evolving educational system. We also evaluate its implications for wealth distribution. We analyze optimal reform strategies including potential adjustments to income tax rates, pension levels, and retirement age. Our results indicate that a 5-year increase in lifespan requires either a 7 percentage point increase in tax rates or an 18 percentage point reduction in the pension replacement ratio. Without an increase in educational attainment, U.S. GDP would stagnate at 2020 levels. Adjusting the system through pension reductions requires greater savings and leads to lower labor supply distortions. Furthermore, adjusting the PAYG system through changes in the retirement age yields the highest GDP increase among the measures considered. In terms of wealth inequalities, these increase with tax hikes and pension reductions, with the most significant rise occurring when adjusting through a higher retirement age. Regarding welfare, the positive impact of increased education is outweighed by the negative effects of lifespan extension. Finally, postponing the retirement age leads to the smallest reduction in retirees' welfare but also reduces the insurance needs of young people.